4/06/2007 @ 11:20PM

Man in a Hurry

Malon Wilkus has lived through a lot of false starts, fumbles and failures. He dropped out of college twice. The shrimp farm he started in Costa Rica flopped. His bid to show that socialism can work in America fell short. For nine years he lived on a commune in the Ozarks, making hammocks, sandals and nut butters; he left in 1983.

“I thought I could create a better society, but common ownership didn’t work,” says Wilkus, 55. “So I became a capitalist.”

Not just any capitalist but that most vilified (and envied) of the breed: a buyout artist. Wilkus’ company,
American Capital Strategies
, has put up $15 billion in equity and loans in the past decade and has taken controlling stakes in 105 companies–more deals than almost any other firm. His shareholders have gotten (the company calculates) a 23% compound annual return.

Wilkus has bought, held and resold a bewildering array of businesses and taken small stakes in myriad others–Piper airplanes, Aamco transmissions and a line of kayaks; Riddell football helmets and Caswell-Massey soaps; a maker of pizza ovens and a producer of truck lifts; food purveyors (Bumble Bee tuna, sushi, maple syrup, peanut butter and beer) and, more recently, an oil pipeline operator and a maker of razors.

He doesn’t mind small fry (average deal, $100 million) and worships speed, made possible because he does not have to line up financing from banks. “It’s a one-stop buyout,” says Wilkus, who has trademarked the phrase.

American Capital Strategies looked at 3,800 possible takeovers last year; a recent spreadsheet tracks 463 prospects. Last year ACS bestowed $6.7 billion in equity and loans to various companies. This year Wilkus has put $1.4 billion into 34 companies and has closed one of his biggest deals ever (an 80% stake in WIS International, an inventory watchdog for retailers, for over $400 million).

But Malon Wilkus is largely unknown, and he doesn’t get invited to give keynote speeches. “The big guys don’t pay much attention to us,” says Mark Opel, a senior vice president in New York, who has worked with Wilkus from the start. “Bigger deals tend to get the headlines and engage egos. That’s not what we do.”

Yet American Capital has led the way in the Next Big Thing in private equity: going public. Wilkus founded his private equity firm in his two-bedroom condo in Bethesda, Md. in 1986. He took it public in August 1997. That is why it irks him when buyout superstar Blackstone Group, a Johnny-come-lately, is hailed as starting a new era with its $4 billion initial offering in March.

When ACS needs money, instead of spending months wooing institutional investors or loading up newly acquired businesses with bank debt it simply takes a week or two to stage another stock offering. The firm has peddled 27 batches of stock, including 2 this year (raising $250 million in January and $450 million more in March). “What we’re doing is making it possible for the average American to share in private equity’s benefits,” Wilkus says. “We’re democratizing the industry.” Individual investors hold 70% of ACS shares.

Wilkus expects that more private equity firms will end up going public, seeking capital from the very markets they had spurned when they took so many companies private. The firms with access to public markets will thrive, raising money more cheaply and faster than rivals that stay private, he says; some of the latter will wither and fade. Of a thousand midmarket private equity firms in business, 380 subsist on one or two deals a year, he says, and last year 200 of them did no deals at all. ACS is fiendishly thorough in tracking these numbers.

“What other industry can you think of that delivers its service only one or two times a year?” he asks. “Yet buyout firms get paid 2% of assets. It’s the most inefficient, highly fragmented industry.”

He predicts this makeover will happen gradually, but he’s bulking up his company and racing ahead as if he expects it overnight. American Capital closed 26 buyouts last year, more than KKR (with 7).

“You just don’t know: Did they change something, like the degree of caution?” says Jerome Bruni, whose money management firm owns 837,000 shares of the company. He has added 60,000 shares since the start of the year, but he says: “The proof of the pudding is in the eating, and we haven’t had the opportunity to digest these deals yet.”

Moreover, Wilkus is chasing after ever larger buyouts, too–even as some of the biggest names in private equity begin eyeing the smaller deals that have been his backwater preserve for a decade. Two years ago his dealmakers had a buying limit of $250 million; this year it’s $800 million. At that pace American Capital could be spending $2 billion on an acquisition by 2009, competing with Blackstone, Carlyle and Apollo Management.

His far bigger rivals, meanwhile, are headed his way. Texas Pacific Group is raising a $1 billion fund for acquisitions of $100 million in equity or less. Other giants have pursued deals at $200 million to $500 million in equity.

Wilkus, who owns a 1% stake in ACS, worth $60 million, and is paid $3.5 million a year, says ACS will do more high-ticket transactions than in the past, but mostly it will stick to the lower price tags it knows best. “We’re not driven by a desire to hang the biggest pelt on the wall.” He says any industry downturn would let the firm pick up bargains because of its trademark approach of–wait for it–the One Stop Buyout. No outside financing needed (usually).

ACS hands out loans to its new progeny in most of the deals it strikes (it also lends to more than 100 buyout firms and dozens of businesses in which it doesn’t own any equity stake). It borrowed money at an average rate of 6.3% last year and lent it out at 12.4%. All told the company was owed $5.9 billion at the end of 2006. That figure was up 69% from 2005, and the obligations came to 60% of ACS’ assets.

The loan repayments cushion the private equity operation when its investments falter. In two years (2002 and 2003) American Capital ran up $100 million in investment losses–but erased the red ink by raking in $350 million in interest, dividends and fees. And ACS often holds senior debt, making it the first to get paid when a business goes bust, even if stockholder equity gets wiped out.

Edward Frank Wilkus was born in Coffeyville, Kans., where his father worked in a Continental Can factory. At age 18 the son started calling himself Malon, a name he invented (and pronounces like the Italian city Milan), and he has used it ever since.

He dropped out of the University of Illinois in 1972 and, with $125 in his pocket, set out for Latin America, where he worked odd jobs–fisherman in Mexico, busboy in Costa Rica, proprietor of that ill-fated shrimp farm. In 1974 he returned to college in Illinois, dropped out again and joined the commune East Wind, named after a Mao Zedong saying predicting socialism’s worldwide dominance. He started a business making hammocks and such, eventually bagging Pier One as a customer and bringing in $1 million in annual sales. But he was frustrated earning just $1,500 a year, the same as everyone else.

“Twenty percent of the people were doing much of the work,” he says. “Yet the wealth was distributed to everyone.” Which pretty much was the point.

In 1983 he left, taking a job as a marketing assistant at the Calvert Funds, which ran many socially responsible mutual funds. He quit two and a half years later to form American Capital. His mission: Help workers take over their companies through employee stock ownership plans.

He did 17 ESOPS in the next 11 years. Workers usually ended up with 80% ownership; the rest was split between management and Wilkus, who often took his fee in the form of shares. In 1994 he rescued a breadmaker on the brink of collapse: Four-S Baking in Los Angeles. Wilkus put $7.1 million in equity and loans into the company for a 20% stake and persuaded its 350 workers to take a 25% pay cut to get a 75% stake in the company. Three years later he sold the company to Mexican foodmaker Bimbo. Including loan repayments, he took out $10.2 million. The workers doubled their money.

In 1997 Wilkus took American Capital public at $15 a share, valuing the firm at $150 million. Structured as a business development corporation, American Capital is able to avoid taxes on much of its income by paying out dividends, which have run an average of 8% of the company’s stock price.

Flush with initial offering cash, the firm was buying and lending fast. A prison owner, a toll booth installer, an air-filter maker–51 deals in four years. The firm moved away from its ESOP mission. “As it turns out, granting options is a far easier way to make employees owners,” Wilkus says. ACS shares doubled in price in four years, but then recession struck in 2001. Investors began selling everything, and Wilkus searched for value.

“Banks had stopped lending [for takeovers], and the buyout firms couldn’t raise their next funds,” he says. “So we took advantage of opportunities they could not.” The firm put up $25 million in cash and loans for a 5% stake in
Middleby Corp.
, a pizza-oven maker intent on buying a rival, and sold the stock back to Middleby a year later, pocketing $34 million in loan repayments and gains, a return of 37%.

The firm had a few flops–an Internet financial portal written down to zero, a busmaker sold at a $6 million loss. But Wilkus reduced risk by dispatching operations experts on his payroll to trim costs, increase production and source materials better.

He put $32 million into a maker of truck lifts, Iowa Mold Tooling, but had to write down its value in ten consecutive quarters as the unit’s results faltered. So ACS flew in a former machine-tool chief executive on staff to rejigger the production line and introduce just-in-time sourcing of inventory. By the time it sold its 82% stake to another truckmaker six years later, American Capital had pulled $109 million out of the company, a 25% annual return.

In 2003 ACS stock returned 53% (as the S&P 500 returned 29%). Hoping to cash in, 15 private equity firms that year planned to take funds public. Unlike American Capital, though, they put no existing investments into their funds before their offerings. Investors balked, and nearly all the firms canceled their plans. “They have difficulty looking us in the eye now,” Wilkus says.

Every Monday morning the firm’s 140 dealmakers meet to pore over a passel of possibilities. They are spread by overlapping expertise among offices in ten cities–energy in Dallas, medical products in Los Angeles, financial institutions in Bethesda, early- and late-stage tech funding in Palo Alto, Calif. The separate groups then all conference with Wilkus in Bethesda to mesh all the prospects into a single agenda.

Once approved by senior dealmakers, the deals must pass five more reviews. Helping find the winners: 30 operations experts and 62 accountants. A final formal pitch in Bethesda is made to a six-member investment committee that includes Wilkus. Says he: “We see more deals, and price more deals, than anyone else”–and reject more, as a recent Monday meeting in New York shows.

“That’s a pass,” one of the three New York group leaders says as soon as one pitch begins. A fashion company? “Kill that.” Some entertainment assets? “The dregs.” The multiple on a sporting goods company? “Out of our league.” Within 25 minutes a dozen deals are trashed. Of 136 new ones considered on this Monday, only 2 likely will get funded.

The culling process kicks into high gear after the meetings break up. As the dealmakers head back to their offices, four American Capital accountants descend on a California company that, they soon discover, has too many hidden costs. The next day, good news: Four CPAs in Toronto are reviewing the books for an Internet marketer that looks promising. But by Friday an unimpressive review for a Chinese company in play for five months has killed any hope of an investment. And ACS accountants in Michigan discover a finance company has exaggerated its health, and the deal is all but dead.

“Every employee has a big red button that they can hit to bring a deal to a screeching halt,” Wilkus says. “We’re a zero-defect factory.”

Speed-to-deal is prized. A week after being invited to visit the San Diego headquarters of WIS International, which helps retailers safeguard their inventory, American Capital already had flown in a crew of 13, including two accountants and a former retailer on its operations team. It also had sent a list of 200 questions to wis bankers at
Goldman Sachs
.

In late November American Capital made a bid. Rival bids relied on bank financing, potentially delaying their closings to mid-February–smack-dab in the middle of WIS’ busy season. On Jan. 18 American Capital prevailed, buying 81% of WIS for $411 million.

Yet for all the good things this former communard has to say about the inevitability of private equity going public, he has made some moves recently that go in the opposite direction. He now raises cash from limited partners in a private fund.

In October the firm collected $670 million in private funds, selling a 30% interest in its equity portfolio to three big funds of funds. The three buyers–HarbourVest Partners, Lexington Partners and Partners Group–also gave American Capital $330 million for a 30% interest in its future deals. ACS will manage a fund set up by the three clients for a fee of 2% of assets and a 30% cut of profits. The company has a similar fund in Europe. Wilkus hopes to create and operate eight more funds in the next few years.

He blames this about-face on a lack of respect on Wall Street: It values ACS at only seven times earnings, half the multiple afforded to many asset managers. The company reflected on this slight in a public statement in February, saying it “congratulates” rival
Fortress
Group for going public and adding, “We hope to obtain a valuation comparable to our asset management peers ”

ACS’ valuation is hurt by Wall Street’s wariness of private equity’s volatile returns. Firms take their gains in fits and spurts, even as they pay ever richer prices for assets, despite higher interest rates, a slowing economy and fleeting recession fears. Blackstone Group itself might find a lukewarm reception among the masses unless it can assure investors it will have steady and stable growth in earnings.

Wilkus says a steady stream of fees from the new private funds he is erecting could help boost ACS’ lowly multiple by letting investors better predict the firm’s earnings. He says the multiples paid in buyouts are high but not outrageously so, given low interest rates.

“The private partnerships had their heyday [in real estate],” says Wilkus. “Then the public REITs, with their transparency and efficiency, wiped them out.” Likewise in private equity: “The publicly traded firms will end up dominating.”